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US Healthcare And The Dismal Science

US Healthcare and the Dismal Science

The medical system in the United States is the best in the world in many ways, but unfortunately the sickest. The system is broken, unsustainable and crashing. The US has been the world's innovator and producer of cutting edge procedures, devices, medications, life prolonging techniques and systems. It has driven the life expectancy up for diseases; like ALL, where children can now expect an 85-90% cure rate with proper therapy. Cystic Fibrosis patients are living into their 30s now, and new transplants and devices are giving life to those with no prior hope of survival. The booming US economy has fueled a biomedical revolution that has cast its light across the world and produced real good and real progress for many people. But physicians smell change in the air. It smells like the inevitable downturn of a booming business cycle; it looks like rationing, hospital based group practices, larger insurance pools, more government regulation, and less autonomy. It looks like even less power for patients and physicians and more control for 3rd party payers and the government which will increasingly make medical reimbursement decisions from 30,000 feet. In short, change is coming, Obamacare is on the horizon, and the implications are onerous.

The current system is a disaster in need of reform, no question about it. It is functionally unstable and fiscally unsustainable. As it stands now physicians are incentivized by 3rd party payers, (private insurance and the Center for Medicare and Medicaid Services (NYSE:CMS)) to do more; fee for service. More labs, tests, procedures, and encounters means more charges going through, volume is king. Volume is necessary to stay solvent. When 3rd parties cut reimbursement, providers do more and charge more to make ends meet. Most hospitals in the US run receivable accounts of near 50%, collecting half of what they bill, requiring them to bill more. Many ERs collect less than 25% of what they bill! They eat the other 75% of costs! No wonder insurance premiums are high, and no wonder the United States spends more than twice the average industrialized country on healthcare.

On top of the fee for service over-consumption problem, there is a gross Malpractice problem. Ambulance chasing lawyers, by some estimates, cost the system 33 cents for every dollar of medical expenditures. This happens inadvertently by scaring practitioners into ordering unnecessary tests and/or consultations. If in doubt, order another test so that when you are on the witness stand, as 61% of US physicians will find themselves, you have more data to back up your decision to not put Mrs. Smith in the hospital. Ask for the Cardiologist to see Mr. Doe for his chest pain even though he just got punched in the chest, you never know when you might miss the big one that will be a career-ender, rendering you unhirable.

Not to mention Malpractice insurance. California's OBGYN shortage can be squarely blamed on outrageous malpractice insurance premiums, often north of $100,000/year. "My baby is not right, hmm…who delivered him, oh ya, Dr. Jones, he's got money and I'm going for it." No wonder the C-section rate in the US is upwards of 40% of all deliveries! The OBs are scared, and if you are having a baby and you sneeze, they will operate. Not to do so places their license at risk. Add to this surgeons paying well north of $30,000 annual premiums for malpractice insurance in states like Nevada and Florida, it doesn't take long to spot an unsustainable model.

Another problem is the incentive employers have to spend on healthcare. Health benefits are tax-exempt; the value of the benefit is excluded from the determination of the employee's taxable income. Employer-sponsored health benefits can be excluded from personal income taxes at the state level as well. This causes an "arms race" in healthcare benefits so to speak as companies tend to offer generous health packages as compensation rather than higher salaries or other compensation.

These forces are causing gross inflation in healthcare despite the fact that prices are relatively fixed. What's that you say? Fixed prices? I thought we had free marked healthcare in the US? No. Not in the least. Prices are determined by CMS and the Private 3rd party payers follow right in line to bring their reimbursement to within spitting distance of CMS.

The reimbursement method is complex and confusing but I will simplify it. For every diagnosis there is a code, an International Statistical Classifications of Diseases (NYSE:ICD) code. These ICD codes must be documented to "prove" medical necessity for billing to the 3rd parties. Concomitantly, Relative Value Units (RVUs) are assigned for every encounter and procedure done. These RVUs are submitted to the 3rd payers for reimbursement. To bill a certain level, providers have to document like hell to earn RVUs. RVUs are converted by CMS into work Relative Value Units (or wRVUs) based on the local market and state which determines professional fee reimbursement. So, as an example, to bill a high level patient encounter, a physician must document a history and physical and match this note up with diagnoses and ICD codes. In order to bill for a high level, let's say a 99223 billing code, he or she must have a certain minimal number of elements in his/her history and physical documentation including a certain minimal number of diagnoses to match up with ICD codes. If these elements are met, the hospital or practice will submit the billing to the 3rd parties for review, which will hopefully deem the documentation appropriate for that level of billing. If deemed appropriate, reimbursement will occur based on the earned RVUs. Physician salaries and/or bonuses are often based on the conversion of those RVUs to wRVUs. Similarly, hospitals get reimbursed based on Diagnosis Related Groups, or DRGs. Hospitals can bill 3rd party payers for 467 different DRGs and get uniform reimbursement per patient for these no matter how long they're in the hospital.

Providers can't collect what they don't bill, and they have to bill a lot to get paid enough to stay solvent. CMS and the insurance companies, the 3rd party payers, will fight for every dime, they will invalidate claims. They know the providers are outgunned because they have the statisticians and the lawyers, They have the actuaries and the billing "experts." So providers roll over and take the cuts. To do otherwise would mean hiring a legion of accountants and lawyers to fight for every dime; and providers don't have the time or the money for that fight. So, to offset their loss, providers raise prices and charge more, they have to make up for losses. Private Insurance purchasers and employers shoulder the biggest portion of this burden through increasing premiums and ever larger deductibles with less coverage. Private insurance purchasers are also paying more to offset the costs of those that have no insurance; those that go to the ER and just don't pay the bill afterward. Privates are also shouldering the cost for low reimbursement on Medicare and Medicaid claims. Practices with a high percentage of Medicaid patients require another revenue stream and can seldom achieve solvency without some form of government help. The "not for profits" that take a certain percentage of Medicare and Medicaid are made whole by State and Federally matching funds, but the regular, "for profit hospitals" must game the system to stay afloat.

Many are choosing to leave the game altogether. These are the concierge practices who are reverting to cash only for service. They can't afford all the ancillary staff required to do complex billing and accounting, and they don't like to deal with having to spend more time thinking about billing correctly and documenting at a high enough level for reimbursement than actually taking care of their patients. CMS is not happy with the concierge practices, and is actively trying to herd private practice physicians into group practices where they can be more easily monitored and controlled. This is a topic for another day but as we are dealing with generalities in this post, suffice it to say more bureaucracy makes it harder for small practices with low revenue to overhead ratios to stay in business.

The Austrian business cycle applies to what we are seeing in US healthcare. The boom bust cycle was initially catalyzed by Medicare. 1965 Medicare forced US citizens to pay into a system where there were nearly 5 workers for every beneficiary. Initially costs were low and there was money in the system. Hospitals and physicians did very well. Today, however there are only 2.2 workers for every beneficiary. Less money is coming in for the 3rd party payers who are cutting back on reimbursement. Lower CMS reimbursement means lower reimbursement from the Privates. The bidding war in medicine is over. Prices, at least in real terms, are on their way down one way or another due to the unsustainability of the system.

This complicated system is like the Titanic, run broadside against an iceberg and taking in massive volumes of water. It is still floating, but just barely. It will either capsize and default or be dismantled and redone; thus enter Obamacare, a topic for another day.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.